we've grown video for your media project st radio gogarty dot com. good afternoon welcome to capital account i'm laurin the store here in washington d.c. these are your headlines for once in a barber twenty first two thousand and twelve the vix is the stock market so-called fear gauge and this measure volatility is currently very low so does this mean that things are a ok well we'll hear from volatility analyst chris cole and what a more complete picture reveals about a bull market in fear and the latest out of europe is that leaders have failed to reach a deal on cutting the greek government's debt according to bloomberg more just spewed over budget plans are expected to head so despite the turmoil the euro crisis is a known unknown for investors but how do you protect against the unknown unknowns how do you avoid being the turkey on thanksgiving we'll discuss plus in loose

change with black friday the biggest shopping day of the year coming up in the u.s. this may be the type of thing that comes to mind when you think of wal-mart. right. totally crazy however this year you may see retail workers protesting what they deem unfair labor practices now we know public companies are focused on delivering quantifiable bottom line results but how do you value the unquantifiable of treating your employees a little better look at another example let's get to today's capital account.

well our next guest has said ball attila is the market price of uncertainty so given these uncertain times with the u.s. fiscal cliff ahead europe on the rocks all dull by the novacaine of easy money why we keep hearing about how the vix the stock market's volatility index is low the wall street journal blog post puts it is the stock market so-called fear gauge remains fast asleep and as we will contend so david well it could be a much more complex picture but first let's be clear that there is more than one type of uncertainty there are things to worry about like this. is a risk the sovereign debt crisis could spread and destabilize the global economy than any of the slowdown in china the latest sign of trouble in the world's second biggest economy is actually doing what the first look the visuals are very inspirational that is coming i mean. so these are what are guys called no no no and

things we know we don't know and then there are these type of risks when i ask them what the heck is going on down here i don't know there is fear this is capitulation really radiation at the daiichi plant and fukushima got so high today they were forced to leave temporarily but now they're back on the job probably the only thing we can do is create a weapon system and. surely will. flash crash fukushima the b.p. oil spill all what our guest calls unknown unknowns or is donald rumsfeld once said things we don't know that we don't know so how does an investor hedge against these risks tomorrow is things giving and you know you don't want to be a turkey on thanksgiving we don't want you to be a turkey so here to talk about what you need to know about volatility is chris cole managing partner of artemis capital management fund and this is his specialty so

first thank you so much for being on the show we saw you and jim grant's conference you were amazing so thanks for being in our l.a. studio thank you it's a great honor to be here today oh it's an honor well that's so nice to say you're flattering me ok so let's start with the vix because we hear so much about the vix is the gauge of volatility for the stock market we hear about how low it is and some investors say this is a sign of complacency but when we're talking to you to establish this what is the volatility quite simply. well you know it's interesting when you look at people talk about volatility and you define it using the vix index and that's how the media likes to define volatility but the vix index only measures the implied volatility one month options on the s. and p. five hundred so that's analogous to may be the one year u.s. treasury but there is a yield curve out there we have treasuries going all the way out to thirty years well in the same in the same vein we can extrapolate volatility going from one

month all the way out ten years and when you look at volatility today although spot fall attilla be at one month level might be very inexpensive volatility going out one year or two years is very his historically expensive actually at some of the highest levels in the history of the derivatives market in terms of its relationship to to spot fall so you have you have cheap spot or near term volatility but a very expensive projection of longer term volatility and i think that's something that the media tends to tends to forget or ignore and let's let's see what that looks like because we have one of your charts which is vix futures curve comparison and this i think is an example of extrapolating out if we could throw that up so this looks at the price of buying the vix when it was at a five year low just recently in august and then september two thousand and eight. people were obviously freaking out and fear was high but if you look at this out over an eight month period you can see it's actually more expensive to buy

volatility now which is exactly what you're saying that it was then it's in fact more expensive to hedge yourself than against these unforseen events now than it was then so what does this mean that actually people are more fearful now longer term than they were then you know well that chart came from august so at that point i think those are obvious seventeenth the vix touched a five year low of thirteen point four five and you know if you turn on c n b c the media are saying now is a great time to hedge your portfolio now is a great volatility is cheap. keep well i would beg to differ because if you wanted to hedge your portfolio for one month yes volatility was an expensive at thirteen but if you want to hedge your portfolio for six months or one year as many investors that that i'm aware of what to do well you would you would have been paying more to do that this past august with the vix at thirteen then you would have paid one day after lehman went bankrupt when the vix was at thirty one so taking on that taken within that different context the term structural volatility

gives you a very different perspective about the cost and the embedded fear in markets so over the last year of that term structural volatility has been at some of the steepest average levels in the history of derivatives markets so even though you might have very low spot volatility there's a tremendous amount of fear a tremendous amount of i call it post-traumatic deflation disorder or a bull market in fear of this idea that investors are fearful of the next two thousand a crisis or will willing to bid up long term volatility even as even as the fed has managed to push down short term volatility via some of these programs like quantitative easing ok so you say the bigger picture reveals a bull market in fear of our pows and dead deflation disorder or post-traumatic deflation a starter news is that much better but very clever i wanted to really highlight that but you brought up easy money so what is the impact of easy money on volatility does it make volatility seem less volatile yes that is absolute case

there is no doubt you cannot separate the impact of fed balance sheet expansion on equity volatility the more the fed expands its balance sheet the lower volatility goes on a spot vix or realized level so in this this is actually very quantifiable the minute the fed stops expanding their balance sheet we end up getting a volatility spike we saw this we saw this during just prior to the flash crash in two thousand. and we saw it just prior to the crisis in august of two thousand and eleven so you know it at this point really volatility is being defined spot volatility is being defined by fed fed action and monetary policy you know to this extent you have this dichotomy where if investors are anticipating that lower of all they push down realized an implied ball but there's still this disconnect between the health of the economy and in this pent up demand for risk that is then

pushed out on the longer end of the term structure so i want to now would you like to use a sort of like a cancer patient and the fed is just applying monetary morphine so that that patient has a difficult diagnosis going forward even though even though they might feel better in the short term so in the short term that risk is being shown by low spot fall but in the long term the risk of that cancer is being reflected in steeper than normal of all surfaces so then how can people accurately head against threats i mean what do you tell the average folks that are trying to gauge the impact of the cancer and the drugs that are being used to treat it but maybe aren't long term solutions to the illness. well it becomes a very hedging in this environment becomes a very tricky question because you know people talk about tail risk insurance today well tail risk insurance is now priced at the highest levels it has been twenty

years so if you're not smart for hedging what everyone else already knows if the market has identified a risk what i call unknown unknown this idea that the market has an understanding of these risk factors like the fiscal cliff like the european debt crisis once that is identified as a risk it is then priced into the market and we are seeing these risk being priced in volatility markets today as a result of that it becomes more and more expensive to hedge against those risks and you don't get any value in doing so so it's taking more and more of a dislocation in markets to make that tail risk pay off so do you think just to clarify do you think the fiscal cliff the eurozone crisis that china hard landing a global recession that all of these things that are on people's radars are already priced into volatility you know i would definitely say long term volatility we have seen a compression in short term ball re-expression recently after the election but you know once again the term structure has received and you are you absolutely are

seeing these these factors priced in the markets already so you know the question the question sometimes is not predicting what's going to occur the question is understanding what has been priced into markets already and whether you're getting a value and so you know buying buying tail risk and buying portfolio insurance today at least on the long of the curve is a little like is a little like buying an internet stock in one thousand nine hundred nine you know that there's this tremendous if you look at internet stock there's tremendous potential for growth but all that growth has already been built into the price well in this case there's a tremendous amount of fear a realization of these known unknown risk factors and that's already been built into the price of the hedge and so it takes i think of. very you have to be very smart about the way that you apply these hedges you have to be very dynamic and the old rules kind of fly out the window the days of just simply systematically buying puts on the s. and p. five hundred or buying a volatility e.t.n.

and thinking that you're protected in reality you're going to be you're going to be burning off more time premium and decay and that's going to cost you a lot more than the cost to you prior to the two thousand a crisis and i and i are grandparents markets now i want to take it and before we get to the no no i want to look at another chart of yours because the correlation between the u.s. dollar and x. and the vix is that is an interesting thing to look at because the correlation has been rising over the last several years especially at points in two thousand and nine two thousand and ten two thousand and eleven first why have we seen an increase in this correlation well this is a fascinating this is a fascinating relationship that has emerged you know this quarter as you've stated the correlation between the vix index and the strength of the u.s. dollar against a wide variety of of currencies is at the highest level. excuse me in the history of markets so what might be causing that well historically the yen has had a high correlation to the vix index and that's because the yen has been the driver

of the carry trade dynamic as we've seen different different developed economies all of race to essence have a currency or depreciate their currencies at once the correlation between the yen and the vix index has has decreased and the correlation between the dollar and in the vix has increased so really i think what we're seeing is this is a combination of the fact that the dollar is now becoming kind of the dominant easing currency taking away that power from the yen and we're also seeing this reflected the aspect of fed easing so as we have as we have a feather using cycle that's that's weak for the dollar and it lowers volatility but the minute the fed stops doing that we end. it's reflecting that dichotomy as well so this is a very interesting dynamic one of the by products of this is that a foreign investor investing in the u.s. in the u.s. stocks actually gets a two to three percent volatility subsidy for the first time in the history in the

history of the ministry of water markets wow what do you know will critical stick right there because i want to talk about what this means for the yen when the japanese bond market so we'll have more with chris coleman energy partner of artemis capital management fund in just a moment and also still ahead with black friday the biggest shopping day of the year coming up in the u.s. could protests a back to one of wal-mart's most profitable days and what are other big box retailers doing that are so different from wal-mart but first your closing market numbers.

the news today violence is once again flared up. these are the images the world has been seeing from the streets of canada as. charlie corporations rule the day. sometimes you see a story so you think you understand it and then you glimpse something else you hear or see some other part of it and realize everything you thought you don't know i'm sorry welcome to the big picture.

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welcome back just before the break we were talking about the increased correlation between the u.s. dollar index and the vix the volatility index and this is at an unprecedented level so what does that mean for the u.s. dollar and its role let's bring back in chris called managing partner of artemis capital management fund to help us discern that so chris now i know that you're not a credit in currency x. very not expecting you to be but my question is for the average investor that with this increase correlation if they weren't sophisticated and they didn't want to get into complex derivatives or something could they just buy the u.s. dollar index if they wanted to hedge against volatility you know that's a really excellent point i mean you can get really creative in the way that you're looking at hedging your portfolio nowadays so in some ways if you're looking to get exposure to volatility just by increasing your exposure to the dollar index that might be one way to actually. create a synthetic hedge for an equity portfolio absolutely how do you know there we go and our viewers can see that chart again because it was an interesting one and now you're saying also that the role that the japanese yen used to play in this regard

so now that the dollar is more in this role what does that mean for the japanese yen is it is it losing its luster and what does this mean for the japanese bond market well you know i am definitely a volatility person as opposed to bond or a currency expert but one thing i will say is that i mean there always has been this correlation that the u.n. has traditionally been a carry trade currency the yen dollar cross and the aussie dollar two young cross has been always correlated with with the vix index that correlations been breaking down as as the u.s. dollars become more correlated with the vix what's happening is that the yen is having competition as a carry trade currency here as as central banks race to devalue their currency is across the developed world you're seeing the yen lose its luster as a carry trade currency and hence its connection to volatility is slowly breaking down i think it took strap late that one might sit back and say well. there's an

understanding or a feeling that what japan has done people say well they've been able to go ahead and devalue their currency undergo quantitative easing and they have not undergone rampant inflation yet well one of the reasons i think why they've been able to do that is simply because they've been the only game in town right now we are in an environment where every developed economy is seeking to devalue at the same time so the ramifications of that kind of relative value proposition have yet to be tested in global markets and you know this this change in correlation between the vix across these currency pairs is just one interesting dynamic that is that is coming out of that ship that is certainly something to watch especially for people like john mauldin you say japan is a bug in search of a windshield so speaking at the beginning because in search of a windshield let's talk about unknown unknowns because because they are unknown by nature we don't know they're coming whether it's a flash crash or fukushima or b.p.

oil spill so so we can't prepare for them but there is there any way that to hedge against them is there any way to quantify their impact or kind of figure out a navigate these boat here here's the great irony of the situation i thought i thought your the intro that you guys had was just great you know at the grass presentation i presented the difference between a known unknown unknown unknown unknown unknown or risk factors that we are aware of like the you know the fiscal cliff and the european sovereign debt crisis we don't know if these things will happen but we're aware of them we know that they could occur and as a result of that they are priced into volatility markets they're priced into the market for portfolio insurance already and as a volatility trader my role is to understand whether that pricing is is accurate or fair unknown unknowns are truly out of the blue events you know i think what does seem to lead calls black swans and those. those would be for example one thousand

nine hundred seven where the market dropped twenty three percent in a day or or the flash crash in two thousand and ten how do you had to against unknown unknowns that's that's a much more difficult question the irony about current volatility pricing is that we have cheap spot vol cheap short term vol and very expensive long term vol well that environment is protecting against a crash of known unknowns it's protecting against the next two thousand and eight but as we increasingly have these kind of hyper speed flash crashes or events that come out of the blue and as monetary policy pushes us to kind of new regimes of risk that we may not see before the the the occurrence of unknown unknown of vents might become might be might drive more of a result in that area and ironically you would rather be positioned on the front of volatility curves rather than on the back to protect against those unknown unknown

events so you know in this environment what i've been advised on a broad based level is to recycle risk from the back to the front to try to walk to hedge against some of those extreme events if they occur what i mean by recycling rest from the back to the back how to do that. you might solve all the till will be on the back of the term structure where it's very expensive and then you might buy it on the front of the trim structure where it's inexpensive and actually someone of the opposite of what a lot of tail responds are doing today it's a paranormal world and as you said so well i grant you said a black swan is not when your parachute doesn't open or your back apparently doesn't open it when you're golfing and a parachute or his parachute didn't open hits you on the golf course important words remember we're going to leave it there though thanks so much for being on thank you very much.

or let's wrap up with loose change dimitri was great laura was really have some stuff to go to area in terms very interesting stuff yeah very very interesting stuff dimitri we are at work so we're not lined up for black friday are you going after the work day some people are saying that i should because i don't i don't really have any clothes i wear the same thing over and over again as our audience is probably noticed ok but i'm not going to go because i have shopping and i'm the last thing on there's a big bunch or are a bunch of the rangers psychopaths looking for deals i would rather retrieve saying there is evidence via video but black friday shoppers actually may not be the only people out on black friday especially at wal-mart because that one right there may be protests of workers retail workers as an ongoing labor dispute continues these workers are planning to protest wal-mart has been trying to stop that from

happening they're pushing to stop these protests but the national labor relations board said it's unlikely to make a decision before the thanksgiving holiday according to reports so they're likely to happen here's what they're demanding. the protesters want minimum hourly pay raise to thirteen dollars more full time work and less costly health care next year their insurance premiums will jump by as much as thirty six percent as wal-mart skills back its contribution we don't want to walk on black right we don't want to do it it's just something we have to because it's the right thing to do. so there is a glimpse and wal-mart has been a target over the years dimitri for just not treating its employees well not paying them not giving them any benefits there have been reports of retaliation of wal-mart management telling employees not to take part in these protests a little bit of threatening implied there what i think is very interesting is kind of the antidote to this is costco which over the years has been kind of touted as an example of how retailers can operate they believe paying their people their

wages there is a benefit to being there longer you actually can have a livable income and they are generous with their health care benefits and employees even get bonuses my question is. cosco ok yes investors have said over the years you know come on when is this guy going to deliver for shareholders and i'll stop just giving this money back to his employees but when you look at the stock price we have a chart i mean it's not like the stock's really taken a beating at least you know not looking at just the chart of the price over the years i mean cost has had a nice trajectory so my question is i guess a little superficially has this kind of been blown out of proportion that this cutting costs. just at the expense of everything else to deliver for shareholders that maybe that is a narrative that's not altogether true of course i completely agree with you but i think that's a reflection of a society has become increasingly focused more and more on that now and on cutting even slimmer and getting further and further into the moment and not worrying about

the long term future benefits or costs of whatever you're doing so not having a happy workforce is really for many reasons not only are consumers the end of the day who are the people that are working that need to be there to buy your goods not going to the money to do it your eating is your future and your future sales but you're also creating a very unhappy they're not consumer friendly that's a long term damage your brand but people think about that because you've got corporate executives of corporations and subdivided for short term profits all the time and there are many reasons for that yeah i mean when i when i worked in equity research the cosco story is when my boss would talk about how about our shareholders were grumble like you know but he was saying so many c.e.o.'s get obsessed with their stock price and with delivering short term to investors every quarter and if they would just run the business well and just keep their view on the long term picture it would just be such a better way to do business and i just wonder if there isn't a way to kind of ever move back in that direction you know costco is one example

but why isn't that more widely used by companies if this really is a model that works there are firms that do that obviously but they're more likely to be firms who are not don't have shares don't have shareholders to answer i don't know how you do it i mean. it's a very stupid strategy not to your employees well because they're that they're going to sabotage your business. employer is going to drag its feet there's not going to good job and sometimes we're going to sabotage your product so it's a really stupid strategy but it's based in my view on short term profit seeking and all of these guys make big bucks going to the industry of corporate executives make big bucks in five years whatever it is and they're out they don't care about the business blow up best examples private equity mitt romney you know that's that's the best example why don't we just cripple the economy so often ballots are like a blow up or like what we've seen with hostess which in fact does look like it's going to liquidate and the thing is that this is being played out in the media is just purely a union issue that this is a labor dispute and workers out you but workers wanting more but the other part of

this is that essentially the executives have been getting these huge paychecks and ever increasing compensation despite the fact that the company was going down so it's a part of the story that you don't hear but we thought it's worth discussing today but that's all we have time for and don't feel nervous or do not be a turkey thank you for watching go have turkey in the u.s. it's thanksgiving tomorrow so we won't have a show but we'll be back on friday and in the meantime you can follow me on twitter at lauren lyster you can like our facebook page there it is right there give us feedback on you tube dot com slash capital account watch us on hulu from everyone here thank you for watching and have a great night. download . the creation so choose your life stream quality and enjoy your

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